State of North Dakota v. Susan Bala

United States Bankruptcy Appellate Panel
For the Eighth Circuit
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No. 20-6002
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In re: Racing Services, Inc.
Debtor
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State of North Dakota, ex rel. Wayne Stenehjem, Attorney General
Claimant - Appellant
v.
Susan Bala; Kip M. Kaler, Trustee
Objectors - Appellees
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Appeal from United States Bankruptcy Court
for the District of North Dakota - Fargo
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Submitted: August 7, 2020
Filed: September 16, 2020
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Before NAIL, SHODEEN and DOW, Bankruptcy Judges.
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Dow, Bankruptcy Judge
The subject of this case is a claim filed by the State of North Dakota, ex rel.
Wayne Stenehjem, Attorney General (the “State”) in its purported representative
capacity on behalf of eligible nonprofit organizations and as assignee of Team
Makers (the “Claim”). Susan Bala (“Bala”), a creditor and sole equity holder of
Racing Services, Inc. (the “Debtor”), objected to the Claim as did the Chapter 7
Trustee (the “Trustee”). The Bankruptcy Court denied the State’s claim filed on
behalf of unnamed charities for lack of standing, and denied the State’s claim on
behalf of Team Makers on the equitable doctrine of laches. The State appealed. For
the reasons that follow, we affirm in part, and reverse and remand in part.
STANDARD OF REVIEW
A bankruptcy court’s legal conclusions are subject to de novo review. Fisette
v. Keller (In re Fisette), 455 B.R. 177, 180 (8th Cir. BAP 2011). Here we review de
novo the Bankruptcy Court’s legal conclusions on the issue of the State’s standing,
and the availability of laches as a matter of law. Dalton v. NPC Intl, Inc., 932 F.3d
693, 695 (8th Cir. 2019)(citations omitted).1
1
The Debtor posits that appellate courts review a trial court’s determination of laches
for abuse of discretion, citing Brown-Mitchell v. K.C. Power & Light Co., 267 F.3d
825, 827 (8th Cir. 2001). However, in that case, the court of appeals reviewed the
district court’s application of laches to the facts. In contrast, the question here is the
availability of laches as a matter of law. See In re Estate of Rios, 2008 WL 986043,
*2 (N. Mar. I. April 4, 2008)(“[w]e review de novo whether laches is available as a
matter of law and for an abuse of discretion the [trial] court’s decision whether to
apply laches to the facts.”)(citations omitted)).
2
FACTUAL BACKGROUND
This case has a long and complex history that has made its way through
several courts. While a detailed recitation of the facts is not necessary for this ruling,
an abbreviated version of the factual and procedural history is warranted. 2
The Debtor operated a pari-mutuel horse racing technology and service
business in North Dakota. It filed its Chapter 11 petition on February 3, 2004. The
case was converted to Chapter 7 months later. The major controversy is rooted in a
ruling by the District Court, ten years into the case, that the State was not authorized
to collect taxes under North Dakota law on account of wagering. As a result, the
State owed the Debtor’s bankruptcy estate millions of dollars for taxes improperly
collected. The parties eventually settled; the State paid the estate over $15 million.
Other creditors then asserted new claims for a piece of the large cash infusion. The
Bankruptcy Court sustained the objections to these claims (other than one of Bala’s
claims) after a multiple-day trial.
The State filed a new proof of claim over a month after the Bankruptcy Court
issued its ruling on the other claims. Its Claim was made “as Representative for the
benefit of eligible nonprofit organizations” under the doctrine of parens patriae.
2
The following cases provide the background in more detail: In re Racing
Services, Inc., 482 B.R. 276 (Bankr. D.N.D. 2012); In re Racing Services, Inc., 595
B.R. 334 (Bankr. D.N.D. 2018).
3
The only charity listed by name, however, was Team Makers. Acknowledging that
the majority of (if not the only) account wagering activity was conducted through
Team Makers, the State subsequently entered into a Consent and Assignment
Agreement (the “Consent Agreement”) with Team Makers for the express purpose
of eliminating any question regarding its ability to pursue the Claim against the
Debtor’s estate for the charity’s benefit. Bala and the Trustee objected to the Claim
on the grounds that the State lacked standing, the Claim lacked merit, and the Claim
was untimely. PW Enterprises, Inc. (“PWE”), a major creditor, filed a brief in
support of the State’s Claim.
After an evidentiary hearing on the claim objection (the “Evidentiary
Hearing”), the Bankruptcy Court denied the State’s Claim for lack of standing. It
focused on the State’s failure to establish 1) that a substantial segment of the
population was injured, and 2) that the Claim belonged to anyone other than Team
Makers, and if there were indeed any other identifiable charities that were involved,
that they were incapable of bringing an action on their own. The Bankruptcy Court
also held that while the State may have standing to represent Team Makers by virtue
of the Consent Agreement, the Team Makers Claim was barred by laches.
4
DISCUSSION
Parens Patriae Authority
The concept of parens patriae creates a right for a state to sue to prevent or
repair harm to quasi-sovereign interests. Hawaii v. Standard Oil Co. of Cal., 405
U.S. 251, 258 (1972). To have parens patriea standing, a state must prove two
elements: a quasi-sovereign interest distinct from that of a particular party, and
injury to a substantial segment of the state’s population. Alfred L. Snapp & Sons,
Inc. v. Puerto Rico, ex rel. Barez, 458 U.S. 592, 607 (1982); Lynch v. Nat’l
Prescription Adm’rs, Inc., 787 F.3d 868, 872 (8th Cir. 2015). Regarding the first
element, a state’s mere assertion of quasi-sovereign interests is not sufficient to grant
parens patriae standing if the relief sought is limited to monetary damages for
injuries suffered to individual parties; such an award will not compensate the state
for any harm done to its quasi-sovereign interest. See Snapp, 458 U.S. at 602; People
of State of N.Y. by Abrams v. Seneci, 817 F.2d 1015, 1017 (2d Cir. 1987). Regarding
the second element, there is no specific number of persons who must be affected for
a state to invoke the doctrine, but “more must be alleged than injury to an identifiable
group of individual residents.” Snapp, 458 U.S. at 607.
The State dedicates a substantial amount of its briefing to cases and statutes
supporting the position that the State’s authority to regulate gaming activities and to
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oversee charitable organizations for the benefit of the public is broad, and that it has
a quasi-sovereign interest in protecting the integrity of the system. 3 While that
position may have merit, it does not speak to the question that the State must address,
and that the Bankruptcy Court asked directly at the Evidentiary Hearing: How is the
State’s interest distinct from Team Makers? The State failed to demonstrate a quasi-
sovereign interest distinct from the Team Makers Claim, a necessary element to
establish parens patriae standing. It sought monetary damages for one private
charitable organization rather than compensation for any damage done to its quasi-
sovereign interest in protecting the public from inappropriate gaming activities.
Therefore, we affirm the Bankruptcy Court’s holding that the State lacked parens
patriae authority in this case.
Even if the State had established the first element of parens patriae standing,
it did not establish the second: injury to a substantial segment of North Dakota’s
population. When questioned on this point by the Bankruptcy Court at the
Evidentiary Hearing, the State responded that the substantial population was North
3
At the Evidentiary Hearing (and in its briefing), the State relied heavily on cases in
which the Attorney General intervened because of concerns as to how charitable
trusts were operating. The Bankruptcy Court made the distinction, however, that
Team Makers is a private charity with its own interests as opposed to a charitable
trust. In addition, the majority of the cases and statutes on which the State relies
address interests that are not in issue here (e.g., to prevent private corporations from
exercising an unauthorized power, to protect any gifts or legacies intended for public
purposes, to recover for antitrust offenses).
6
Dakota State University (“NDSU”), the “sports,” the “kids going to college.” The
Bankruptcy Court pointed out that the State was not representing NDSU, but Team
Makers, and it did not see how Team Makers represented a substantial segment of
North Dakota’s population. This exchange followed:
State: Well, it may be a factual matter.
…
Court: No, I’m talking about as a matter of factual proof, I’m driving
home with this case submitted to me and you’re saying that might be a
factual matter; saying, well, I didn’t see the facts to support it so you
haven’t shown that as a factual matter. Am I wrong?
State: No.
Evidentiary Hearing Transcript, page 65, lines 6-18.
The State argued further that the indirect effects of the injury must be
considered as well in determining whether the State has alleged injury to a
sufficiently substantial segment of its population, citing Snapp, 458 U.S. at 607.
However, the record is devoid of evidence establishing the “indirect effects” to
which the State refers. The State offered only one witness at the Evidentiary
Hearing, an attorney representing PWE. (It is noteworthy that the State did not call
a representative of Team Makers or of NDSU to testify.) That witness produced no
evidence that any charitable organizations other than Team Makers was affected by
the account wagering at the relevant time. The State produced no other evidence
regarding the specific injury incurred by NDSU, nor did it demonstrate the substance
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or magnitude of the “indirect effects” of the injury allegedly caused by the Debtor.
We therefore concur with the Bankruptcy Court’s finding that the State failed to
show the requisite injury to a substantial segment of North Dakota’s population, and
affirm its ruling that the State did not have parens patriae standing to file a claim on
behalf of Team Makers and other charities.
Laches
The Bankruptcy Court ruled that to the extent the State had authority to assert
Team Makers’ Claim by virtue of the Consent Agreement, it was nonetheless barred
by laches, and therefore denied. Laches is an equitable defense based on the maxim
that equity aids the vigilant, not those who sleep on their rights. In re Jemal, 496
B.R. 697, 703 (Bankr. E.D.N.Y. 2013). It applies when a claimant inexcusably
delays in asserting its claim and thereby unduly prejudices the party against whom
the claim ultimately is asserted. Roederer v. J. Garcia Carrion, S.A., 569 F. 3d 855,
858-59 (8th Cir. 2009)(citations omitted). To successfully assert laches as a defense,
a defendant must prove three elements: 1) a delay in asserting a right or claim; 2)
that the delay was inexcusable; and 3) undue prejudice to the party against whom
the claim is asserted. Id.At the Evidentiary Hearing, the State did not dispute that there was a delay,
nor did it dispute that Bala was prejudiced. It claimed that the delay was excusable
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because many things had changed through the course of the litigation. In addition,
the State asserted that the cause of the prejudice was the Bankruptcy Court’s earlier
ruling.
The first time the State argued that laches could not apply in Chapter 7 cases
was in this appeal. Bala asserts that the State should not be permitted to raise this
new issue since it was not raised before the Bankruptcy Court, citing cases holding
that this would be inherently unjust. See Singleton v. Wulff, 428 U.S. 106, 120
(1976); Stafford v. Ford Motor Co., 790 F.2d 702, 706 (8th Cir. 1986). 4 The matter
of what questions may be taken up and resolved for the first time on appeal is one
left primarily to the discretion of the courts of appeal, to be exercised on the facts of
individual cases. Id. (citations omitted). An appellate court is justified in resolving
an issue not passed on below when, for example, the proper resolution is beyond any
doubt or where injustice might otherwise result. Id. (citations omitted). Another
exception to the general rule cited by Bala is when the argument involves a purely
legal issue as to which no additional evidence or argument would affect the outcome.
Weitz Co. v. Lloyd’s of London, 574 F.3d 885, 891(8th Cir. 2009)(citations omitted).
4
At oral argument, Bala argued that the State had the opportunity to raise its
arguments regarding laches in the Bankruptcy Court, but did not. The record does
not support that assertion. According to the docket sheet, the State filed its pretrial
brief on May 10, the day by which they were due. Bala filed hers on May 24, six
days before the hearing – that was the first time she raised the laches defense.
9
Bala conceded at oral argument that no factual issues are involved in this
context. The State’s argument that laches cannot apply to Chapter 7 cases is a purely
legal question. We conclude that the State did not waive its right to raise this issue,
and exercise our discretion to consider it in this appeal.
Section 726 provides in part:
(1)Except as provided in section 510 of this title, property of the estate
shall be distributed —
…
(2) in payment of any allowed unsecured claim … proof of which is —
…
(C) tardily filed under section 501(a) of this title, if —
(i) the creditor that holds such claim did not have notice
or actual knowledge of the case in time for timely filing of
a proof of such claim under section 501(a) of this title; and
(ii) proof of such claim is filed in time to permit payment
of such claim;
(3) third, in payment of any allowed unsecured claim proof of which is
tardily filed under section 501(a) of this title, other than a claim of the
kind specified in paragraph (2)(C) of this subsection;
…
(6) sixth, to the debtor.
11 U.S.C. §726(a).
The State contends that laches does not apply to tardily-filed claims that are
filed in time to permit distribution under §726(a). In other words, since the Trustee
has not made his final distribution in the Debtor’s case, the State’s Claim was filed
in time to permit payment; pursuant to §726(a)(3), laches cannot apply. It relies on
three cases to support its position: In re Jemal, 496 B.R. 697 (Bankr. E.D.N.Y.
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2013), In re Feldman, 261 B.R. 568 (Bankr. E.D.N.Y. 2001), and Columbia Ribbon
& Carbon Mfg. Co., 54 B.R. 714 (Bankr. S.D.N.Y. 1985). Bala distinguishes these
cases on the grounds that each of them focuses on the fact that the claimant did not
have notice or knowledge of the bankruptcy proceeding, so the holdings were
governed by §726(a)(2)(C), not §726(a)(3). Since the State has been a known
creditor from the inception of the Debtor’s bankruptcy, Bala asserts, cases relying
on §726(a)(2) are not relevant.
Courts have held that regardless of whether tardily-filed unsecured claims are
classified under §726(a)(2) or (a)(3), they are entitled to distribution from the estate,
and are to be paid prior to the trustee making any distribution to the debtor. See,
e.g., In re Houser, 242 B.R. 406, 407 (Bankr. S.D. Ohio 1999); Perry v. First
Citizens Fed. Credit Union, 304 B.R. 14, 21 (D. Mass. 2004), aff'd, In re Perry, 391
F.3d 282 (1st Cir. 2004).
Bala also contends that courts have applied laches to disallow claims in
Chapter 7 cases, relying on In re Wilson, 96 B.R. 257 (9th Cir. BAP 1988), and In
re Cmehil, 43 B.R. 404 (Bankr. N.D. Ohio 1984). However, the Cmehil court does
not even mention §726(a). The court in Wilson acknowledges §726(a)(3), but bases
its ruling on how the amendment of Rule 3002(c) in 1996 effectively removed the
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bankruptcy court’s discretion whether to extend the time permitted for creditors to
file late claims in a Chapter 7. Neither case is relevant.
Further, Bala cites several cases in which courts applied laches to disallow
claims in Chapter 11 and Chapter 13 cases. Given that §726 applies only to Chapter
7, these cases are inapposite.
By enacting §726(a)(2)(C), Congress intended to permit distribution to late
filed claims of known creditors so long as the claims are filed in time to permit the
distribution. Jemal, 496 B.R. at 704, citing In re Feldman, 261 B.R. 568, 579
(Bankr. E.D.N.Y. 2001). Because the statutory scheme for claims allowance and
priority in Chapter 7 cases is expressly set forth in the Bankruptcy Code it would be
improper for a court to employ the doctrine of laches to modify that scheme. See
Jemal, 496 B.R. at 704. As the Supreme Court stated in United States v. Mack,
“Laches is not a defense to an action filed within the applicable statute of
limitations.” Mack, 295 U.S. 480, 489 (1935). One of the principal reasons for this
rule is that “separation of powers principles dictate that federal courts not apply
laches to bar a federal statutory claim that is timely filed under an express federal
statute of limitations.” Jemal, 496 B.R. at 703 (citing Ivani Contracting Corp. v.
City of New York, 103 F.3d 257, 259 (2d Cir. 1997). The application of laches is
inconsistent with the language of §726 and its underlying policy.
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The State also argues that the Bankruptcy Court erred in disallowing its
tardily-filed claim, citing §502(b).5 Under that provision of the Bankruptcy Code, a
claim shall be allowed unless it falls within one of its nine exceptions. In re Dove-
Nation, 318 B.R. 147, 153 (8th Cir. BAP 2004). Pursuant to §502(b)(9), a tardily-
filed claim in a Chapter 7 case is not subject to disallowance so long as it meets the
requirements of either §§726(a)(1), (2), or (3). 11 U.S.C. §502(b)(9). The court in
In re Stalf, 252 B.R. 168 (Bankr. E.D. Mo. 2000), articulated the exception to the
exception this way:
In a Chapter 7 case, a proof of claim is deemed allowed unless a party
in interest objects. If an objection is made, the Court shall allow the
claim except to the extent that the proof of claim was not timely filed;
except that if not timely filed, it may yet be allowed to the extent that it
was tardily filed as permitted under §726(a)….
Id. at 169 (citations omitted). The State takes the position that its Claim, though
tardily-filed, should not have been disallowed because, under §502(b)(9), it was filed
within the limitations set forth in §726(a)(3) (i.e., before a final distribution).
In response, Bala argues that while a tardily-filed claim may not be disallowed
based on its tardiness under §502(b)(9), a court could disallow it under §502(b)(1)
which provides for disallowance if “such claim is unenforceable against the debtor
and property of the debtor, under any agreement or applicable law for a reason other
5
Bala did not challenge our consideration of this issue on the grounds that it was not
raised in the Bankruptcy Court.
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than because such claim is contingent or unmatured.” 11 U.S.C. §502(b)(1). Bala
attempts to “fit” its objection to the State’s claim into §502(b)(1) by characterizing
laches as a defense under North Dakota law. We do not find this argument
persuasive.
A plain reading of §502(b) suggests that the bankruptcy court should
determine whether a creditor’s claim is enforceable against the debtor as of the date
the bankruptcy petition was filed. In re Flanagan, 503 F. 3d 171, 179 (2d Cir. 2007).
The fact that laches is a recognized defense in North Dakota, as Bala contends, does
not render the Claim unenforceable against the Debtor under “applicable law” as
contemplated by §502(b)(1). By definition, the laches defense was not available as
of the date the Debtor’s petition was filed.
Because we have decided that laches is not available as a matter of law to
tardily-filed claims in a Chapter 7 case as long as they are filed in time to permit
distribution under §726(a), there is no need to address the State’s separate argument
that §502(b) does not provide for the disallowance of claims based on issues of post-
petition enforceability.
For the foregoing reasons, we affirm the Bankruptcy Court’s ruling that the
State’s Claim as filed on behalf of Team Makers and unnamed charities is denied
for lack of standing under parens patriae. While we agree with the Bankruptcy
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Court that finality is a very important interest, particularly in a case of this duration,
we conclude that laches does not apply to tardily-filed claims that are filed in time
to permit distribution under §726(a). We therefore reverse the Bankruptcy Court’s
ruling that the Team Maker Claim assigned to the State was barred by laches, and
remand the case to the Bankruptcy Court for reconsideration of the Claim and any
other objections thereto.
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